Around early springtime each year, people file their taxes with the IRS. Among making sure that their income is reported accurately, people also look for expenses that they can deduct from their taxes to either save some money or get a larger refund. If you’ve purchased a home recently, you’ll already benefit from a few excellent tax breaks and advantages. But you might wonder whether your closing costs – the collection of fees and extra charges that are tacked onto the end of any property purchase – are tax-deductible as well. Let’s break down whether closing costs are tax-deductible, which costs you should focus on, and whether itemizing your deduction is a wise idea.
In a nutshell, an expense is “tax-deductible” if the IRS (Internal Revenue Service) allows you to subtract that expense from your total income when you calculate your taxes at the end of the year. People look for tax-deductible items (expenses) since it effectively lowers their yearly income, and how much tax they ultimately owe the IRS. As taxes are based on your overall income, lowering your income by even a small amount can result in you paying fewer taxes for that year. The majority of homeowners already enjoy two tax benefits when they buy a home: they get to deduct their mortgage’s interest and they get to deduct their property taxes. However, many people wonder whether closing costs are also tax-deductible items , especially since there are many of them.
Closing costs are specific expenses that you pay when you "close" a deal on your home or any other property you have just purchased. Closing costs extend beyond the initial down payment or primary purchase and include any ancillary fees that are outlined in your purchase agreement or title. In general, closing costs run between 3 to 5% of the total loan amount. They can include a wide variety of fees, such as:
As you can see, closing costs can quickly add up to quite a big chunk of change. This is why many people seek to deduct them from their taxes at the end of every tax year. Fortunately, all closing costs are usually broken down with your purchase agreement, so you can easily refer back to that document when filing your taxes and deducting them.
This answer is, unfortunately, not quite simple. According to the IRS, only some closing costs are tax-deductible while others must still be counted as part of the regular income you report at the end of the tax year.
The IRS has a list of which closing costs are tax-deductible, which is re-created below. Ultimately, only a handful of closing costs are tax-deductible due to a variety of legal and financial reasons:
The last item is particularly notable. The IRS only lets you deduct those fees if your loan is for your primary place of residence. Thus, you can’t deduct loan origination fees if you purchased a property to rent to someone else or took out the loan for your business .
Unfortunately, there are many more closing costs that are non-deductible than there are deductible closing costs. These include:
Ultimately, each of the above items is added to the total cost of your property. You should still note these on your IRS tax Form 1040 as separate costs if you wish to try to deduct some of them.
The majority of American taxpayers take the Standard Deduction , which is a catchall deduction that assumes a certain number of deductible expenses in exchange for convenience. People take the Standard Deduction when they don’t want to calculate all the various expenses that may qualify as deductions and instead just get a minor tax break. However, you cannot take the standard deduction if you want to deduct your closing costs. This means you’ll need to go through your yearly income and expenses carefully to find all potential deductible items so you get your maximum refund (or are taxed as little as possible). If you want to deduct your closing costs, you’ll need to fill out your 1040 Form and come up with a list of itemized deductions. Use the list above or the IRS website when creating your list. Note that this will take a little bit of forethought and planning, so it’s not for folks who hate doing taxes!
It depends. Many people prefer to take the standard deduction since it’s easier to calculate and they don’t have to dig through the rest of their purchase receipts or bank account history. In general, it’s probably a better idea to take the standard deduction if your home isn’t a (relatively) expensive piece of property or your closing costs weren’t exorbitant. You’ll often save more money this way than by gaining a lot of little savings through itemizing all of your deductions, one by one. However, you can always ask a tax company to take a look at your accounts and make the decision for you. This may be easier than analyzing the situation yourself.
All in all, some closing costs are tax-deductible and, depending on the cost of your property purchase, could end up saving you thousands of dollars. However, some homeowners may decide to stick with the standard deduction instead of deducting their closing costs item by item. It’s ultimately up to you. Whatever you decide, be sure to look at the closing costs for your home carefully and never approach any home deal without ensuring your other debts are controlled . Contact Seek Capital today for more information about personal loans and financial wellness! Sources https://www.irs.gov/publications/p530 https://www.irs.gov/credits-deductions-for-individuals https://www.irs.gov/newsroom/irs-provides-tax-inflation-adjustments-for-tax-year-2020